GEO Investing

GameStop Corp, the international video game retailer, is one of the most heavily shorted stocks on the NYSE. It currently trades at a ttm P/E of 8.3 and short interest is in excess of 30%. For years, the demise of brick-and mortar video game retailers has been portrayed as the obvious and inevitable course of the industry, and GameStop is the first that stands to suffer from the decline. The stock is priced as if this graveyard scenario is “inevitable”, and I seek to identify whether or not the valuation may price in a negative outcome that may not come to fruition or negatively affect the business as much as the public thinks.

The Obvious Similarities Between GameStop And BlockBuster

At the core of the short thesis is the idea that video game brick-and-mortar retail will eventually move online and that this will inevitably cause the downfall and potential extinction of the industry.

The most cited comparison is the Netflix — Blockbuster case. The similarities are obvious: Videos, just like video games, are products that used to be retailed and rented out from physical locations, but can just as easily or even more seamlessly be downloaded or accessed online. It does not require the physical location anymore. As I am sure all of you are aware, Netflix moved into video streaming and emerged as a money making machine and spectacular investment while Blockbuster failed to adept and consequentially was forced to file for bankruptcy protection in 2010.

While I believe it is a valid point that brick-and-mortar retail of products that can easily migrate online will ultimately cause a secular decline in the industry, I disagree with the conclusion that GameStop is awaiting the same fate as Blockbuster.

It Has Never Really Been Only About Digital

The core of my thesis is that it has never really been only about digital, but about the whole service package and convenience. The key differences are not as obvious as the similarities.

An important difference is that digital video retail had advantages other than just saving you the time to walk to a store. Blockbuster’s model had a weakness that wasn’t obvious at the time; A good deal of the revenue it generated came from charging its customers late fees. This was a fact that customers clearly noticed, and perceived — consciously or subconsciously – as inconvenient. You don’t have this issue with Netflix or other online streaming services.

By contrast, the physical locations of GameStop enable important business aspects that are hard to replicate online. The trade-in business is an important one. People are able to trade-in video games for cash or store credit, which enables the next purchase. Even though there are online-based trade-in service alternatives, I would argue they are mostly inferior to GameStop. You have to send what you want to trade in via mail, which adds an extra layer of inconvenience. When the product you want to trade in is evaluated, I believe most people would like to be there. Another disadvantage is that sending big packages with video consoles or electronic devices is costly and cumbersome.

There are businesses that enable online video game trade-in or exchange of games without a middle man. Leaptrade, Goozex, Mooch, Gazelle, Gvlde, or even Amazon and Ebay are prominent choices. For the aforementioned reason, I believe in-store video game and video console trade-in are ultimately more convenient for the consumer. You walk in with your game and walk home with a new one, case closed.

I think the trade-in business is an important aspect of what makes GameStop different from Blockbuster. People still come to GameStop stores, and once you have gathered people at a physical location it opens up a range of options to sell them more products and services. Many other big retailers like Wal-Mart have physical locations with a trade-in service, but I would argue that GameStop has built a trusted brand in the video game trade-in business that kept driving customers to their locations and will continue to do so.

There is also a social element to stores, wherein gamers can consult with staff about gaming tips, upcoming releases and product recommendations. Some GameStop stores host game tournaments, others host game-specific events. Becoming a PokemonGo gym location is the latest development in this arena and shows that the company can embrace augmented reality, which is clearly going to be the next trend in mobile.

GameStop seems to understand this. They diversified their product lines into selling several other tech devices.

There are other aspects that make GameStop different from Blockbuster. GameStop got into the business of selling downloadable game content in their stores, which seems to be quite successful. An often-overlooked fact that contributes to the success of this segment is that many of GameStop’s younger customers don’t possess credit cards and therefore have a hard time shopping online.

GameStop also seeks to use their extensive real estate experience and further diversify services. It recently purchased 507 AT&T authorized retail locations. In 2013, GameStop entered the mobile space by acquiring Spring Mobile, an AT&T authorized retailer with approximately 90 stores. Today, GameStop is AT&T’s largest authorized retailer with 1,421 AT&T Mobility stores. GameStop is also the largest retail distributor of Cricket Wireless with Cricket products and services available in 3,400 of its U.S. GameStop locations.

The Bottom Line For GameStop

GameStop is not only different from Blockbuster, its trusted trade-in business and brand awareness gives it a fairly sustainable competitive advantage in driving people to the stores. From there, product diversification and upsell opportunities are vast.

Paul Raines, CEO of GameStop, says the skepticism comes from pigeonholing GameStop as a physical retailer, when in fact it is more than that. “We’re such a complex animal, there is no elevator pitch for GameStop”

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